"The Debtors’ operations constituted a massive Ponzi /pyramid scheme."
- Court appointed trustee Stephen B. Darr
The court-appointed Bankruptcy trustee responsible for marshalling assets for victims of the massive alleged $3 billion TelexFree Ponzi/pyramid scheme has asked a Massachusetts bankruptcy court for permission to institute an electronic claims process to deal with the anticipated hundreds of thousands of potential claims. Stephen B. Darr, the trustee, filed his "Motion by Chapter 11 Trustee for Entry of Order Fixing Bar Date for Filing Proofs of Claim, Approving Form and Manner of Providing Notice, Directing That Claims Be Filed Electronically, and Approving Content of Electronic Proofs of Claim" (the "Claims Motion") late yesterday evening as he seeks to begin the process of returning assets to victims of the massive alleged fraud. The electronic nature of the claims process, while not unprecedented in Ponzi scheme cases, will undoubtedly assist in the efficient administration of the process but also raises questions as to the accessibility of such a process to many of the scheme victims who may not have access to the required hardware to submit a claim. As discussed below, the Claims Motion seeks (i) to set a Bar Date by which all claims must be submitted, (ii) approval of a Proof of Claim form, and (iii) approval of the proceduressurrounding the claims process and submission of the form. If approved, the claims process will likely be the largest claims process ever administered in a Ponzi or pyramid scheme proceeding.
As is well known by now, TelexFree raised billions of dollars from hundreds of thousands of investors through the sale of a voice over internet protocol (“VoIP”) program and a separate passive income program. The latter was TelexFree's primary business, offering annual returns exceeding 200% through the purchase of "advertisement kits" and "VoIP programs" for various investment amounts. Not surprisingly, these large returns attracted hundreds of thousands of investors worldwide, and participants were handsomely compensated for recruiting new investors – including as much as $100 per participant and eligibility for revenue sharing bonuses. Ultimately, while the sale of the VoIP program brought in negligible revenue, TelexFree's obligations to its "promoters" quickly skyrocketed to over $1 billion.
In April 2014, after multiple attempts to modify the passive income program both to rectify regulatory deficiencies and to curb increasing obligations, TelexFree quietly filed for bankruptcy in a Nevada bankruptcy court with the hopes of eliminating obligations to its "promoters" and extinguish any ensuing liabilities. This tactic failed, as enforcement actions were filed by the Securities and Exchange Commission (the "Commission") and Massachusetts regulators. The bankruptcy proceeding was later transferred - over TelexFree's objection - to Massachusetts, where the company was headquartered and where the Commission had filed its enforcement proceeding. The appointment of an independent trustee, Mr. Darr, shortly followed. TelexFree's founders, James Merrill and Carlos Wanzeler, were later indicted on criminal fraud charges, with Wanzeler currently a fugitive and believed to be in Brazil.
Perhaps owing to the complexity of administering a claims process that could ultimately include up to 1 million claim submissions, establishment of a claims process and procedures were delayed while the trustee evaluated the most efficient way to handle such an undertaking. Indeed, a claim bar date was initially established but later vacated at the request of Mr. Darr.
The scale of the scheme is truly unprecedented. According to the Claims Motion, the Trustee and his staff hvae determined that there were approximately "11,000,000 User Accounts associated with approximately 900,000 Email Addresses in the Debtors' scheme." Because the Trustee believes that some email addresses represented multiple participants, he estimated that the number of participants "is likely in excess of 1,000,000." To put this in perspective, if each participant submitted a hard copy of a 5-page proof of claim form, the stack alone would be nearly half a mile high, and would stretch nearly 800 miles end to end.
Based on the sheer number of participants and the Trustee's observation that each participant had previously submitted an email address, the Claims Motion seeks to institute a largely-electronic claims process utilizing participants' submitted email addresses as primary points of contact. As the trustee's counsel submits,
The cost of attempting to manually compare amounts asserted in potentially millions of physical proofs of claim against the Debtors’ records is incalculable, particularly given the number of transactions that may be associated with any particular claim.
The claims process will be administered through an online "portal" which will be the exclusive form of submitting claims. Importantly, the motion seeks court approval to disallow any previous claims submitted by mail using the standard B10 claim form - a step which thousands of victims are believed to have taken in the aftermath of the scheme. Thus, it is possible that those victims could be denied the ability to participate in the claims process in the event they believe their previous submission of a physical claim will be adequate to receive distributions.
The Claims Motion also requests that the Court approve a "Bar Date" that sets the last day an electronic proof of claim can be deemed timely filed. The trustee proposes that the Bar Date be set as 4:30 P.M. Eastern Time on no earlier than the 90th day following the initial opening of the Portal hosting the electronic proof of claim. Thus, the failure to timely submit a proof of claim by the Bar Date will preclude any victim from participating in any distributions of TelexFree assets.
Finally, the Trustee requests approval of a modified B10 Proof of Claim form to be used in the claims process, which will require that a participant:
- Provide his/her current contact information, including physical address, electronic mail address, and phone number;
- Provide and/or confirm personal or business name(s), address(es), phone number(s), Email Address(es), taxpayer identification number(s), User Account name(s), password(s), and bank account information that were utilized by the Participants when establishing the User Account(s);
- Itemize and/or confirm all payments made by a Participant to the Debtors and all payments received by a Participant from the Debtors; and
- itemize and/or confirm all payments made by a Participant to other Participants in connection with the purchase of a membership plan, and all payments made to the Participant by other Participants in connection with the purchase of a membership plan.
Thus, in addition to submitting/confirming a loss amount, each participant will be required to attest as to (1) the payments they received after their initial investment, (2) whether they made any payments to any other participants in connection with their investment, and (3) whether they received any payments from other participants in connection with those participants' investment. The latter two categories are aimed at those investors who may have served as "promoters" who received incentives based on their recruitment of additional victims to the scheme.
A hearing has not yet been set on the Claims Motion. A copy of the Claims Motion is below: